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Although commercial parties enter contracts with trust and good faith, you may be concerned about ensuring the other party complies with its obligations. In certain circumstances, audit rights can offer you significant protection. This article will explore how audit rights can protect your business from risk.
What is a Contract?
A contract is an essential legal document. In a business context, it is a legally binding agreement between two parties that records the terms of their commercial deal or project.
A contract is a vital tool to prevent risk and to help protect you if things go wrong. As part of your contract, your business can consider including audit rights clauses to protect itself from certain risks.
What Are Audit Rights?
Audit rights allow a party to check the other party’s conduct under a commercial contract. For example, as a customer, an audit right could give you access to a supplier’s books, records, premises or other information.
If you wish to have audit rights, you must include provisions in your contract allowing you to do so.
Examples of when you can include contractual audit rights as a customer include:
- where the supplier is performing a service that is business critical for you, meaning you want to check that they comply with their contract obligations;
- your contract is exceptionally high value, and you want to check that the supplier is following your instructions – for example, that a manufacturer is manufacturing products as per your product specification;
- you are a data controller, giving a third-party supplier (a data processor) access to various personal data owned by your business. In this case, data protection law permits you to have audit rights to check that the processor is complying with their legal obligations under the UK GDPR. You may wish to define the scope of your audit rights, specifying that you can conduct on-site audits upon giving written notice to the supplier; or
- where you are a customer entering into a high-risk contract with a supplier, you may want the right to examine the supplier’s performance of services or identify any suspected fraud.
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How Can Audit Rights Protect Your Business?
Audit rights can be particularly beneficial depending on the context of the contract.
Audit rights can protect you in various ways by allowing you to check and verify the other party’s compliance with their contractual obligations.
Specific benefits of audit rights include:
- giving you comfort in knowing you have the right to check that the other party is doing what they have agreed; and
- being able to take action against the other party if your audit reveals problems or that the party has breached your agreement.
Turning to these points in more detail:
1. Contract Audit Rights Will Give You Comfort When Entering New Contracts
When negotiating a new contract, you should identify the risks involved. Accordingly, you should anticipate the circumstances in which you may require audit rights.
Agreeing on audit rights can be particularly comforting for customers working with new suppliers whom they have not had experience dealing with before.
2. Contract Audit Rights Can Help Protect Your Interests and Offer Remedies
Including audit rights can give you a chance to consider and seek remedies in particular circumstances.
For example, if audit rights reveal that a customer has breached your contract (for example, breached the terms of a software licence you have granted them), you may take action to revoke the licence and terminate the contract.
If you are a customer and the supplier has breached their obligations, you could seek to agree to a reduction in the price of the services you have agreed.
3. What Should I Consider When Drafting Contract Audit Rights?
Contract audit rights need careful attention. When drafting these rights, defining the scope of what you are permitted to do is vital.
As part of an audit rights clause, you will need to consider various questions, including:
- which types of audits can you carry out?;
- where will the audit take place? For example, can audits be carried out virtually, or do you need to access physical records, books, and premises?;
- how often can audits be performed, and how much notice should you give the other party?;
- who will run the audit? The other party, or an independent auditor?;
- who will be present at the audit?;
- what are the consequences of the results of the audit?; and
- who will pay the costs for the audit?
The audit clause in your contract must be drafted according to the types of rights you need. Since audit rights can be quite onerous, you will likely need to negotiate these rights with the counterparty.
If you need support with drafting or negotiating an audit rights clause, you can work with an experienced commercial solicitor to support you.
Download this free Commercial Contracts Checklist to ensure your contracts will meet your business’ needs.
Key Takeaways
Audit rights can help protect your business from risk, both as a supplier and a customer. Audit rights can allow you to check that the other party is complying with their contractual obligations. If not, your audit clause can set out various remedies. Audit clauses should be considered and drafted carefully, depending on the nature of your agreement and the types of rights you require.
If you would like to know how contract audit rights could help your business in its commercial dealings, contact our contract lawyers as part of our LegalVision membership. For a low monthly fee, you will have unlimited access to lawyers to answer your questions and draft and review your documents. Call us today on 0808 196 8584 or visit our membership page.
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